Using a Stop Order to Lock in Capital Gains

I know I was extremely lucky to pick a winner in my lastest stock trade, but boy does it feel good to finally be right. American Airlines(AAMRQ) is up 1,029.47%(as of 3/24/13) since the end of 2011 when I bought it. I’d say my return has been pretty good . Even though there was substantial risk investing in a company that was on the verge of bankruptcy, my initial investment was less than a thousand dollars so it’s not like I was gambling with a ton of money.

Obviously trading individual stocks is risky(see Enron) but as long as you’re limiting it to less than 5% of your net worth, your overall portfolio risk is minmal. Remember that the market has been on a tear the past two years, so any convoluted strategies you’ve come up with are probably working because of that fact. Not because you are the new age Warren Buffet. That performance is going to give a lot of false confidence to investors who have never experienced a bear market(or maybe they just forgot about the last one) so don’t get too cocky.

Low interest rates have caused investors to turn to alternative investments and often more risky investments in order to see a higher rate of return. But remember, there’s always a risk trade-off for above average returns. Conservative investors tend to shift more towards Heritage term deposit rates while a riskier investor might be interested in P2P lending with Lending Club. Either way, there will always be more risk associated with above average returns.

Should I Cash Out Now?

Now that the stock has gone up a thousand percent, I need to figure out when to sell. I could sell it all now and lock in the gains or wait and see if the stock goes up further. With the former, if the stock goes up, I’d be pretty bummed since I could have made even more money. But with the latter, I could lose all the money I’ve made and that seems a lot worse than the other option.

I never imagined making even half of how much I’m up right now so I’ve decided to sell 1,100 of the 2,000 shares. If the stock goes up, I still get some of that money and if the stock goes down, it’s not that big of a deal to me since I’ve already made so much.

Selling with a Stop Market Order

Now that I’ve decided to sell 1,100 shares, I want to get the best price possible. With a stop market order, I set a price below the current price and if the stock hits that price it will automatically execute that order at the current market price. I set the limit price at 10% below the current price in order to allow for fluctuations. If the stock continues going up, I’ll keep changing my limit price accordingly in order to get as much money as possible.

Some investors don’t like engaging in market timing activities like this but I think it’s ok and makes sense when you are realizing gains. If you’re happy with the amount of money you’ve made why not cash it out.

Update(3/25/13): AAMRQ hit my limit price of $4 today so it triggered an automatic sell order of 1,100 shares. I still have 900 shares left but now I’m playing with house money. I’ll probably let the stock ride for a few more months and see what happens.

Readers, what would you do if you have a stock or fund that’s made you a ton of money? Would you sell it all, half or none?

Yea I’ll probably end up setting a stop loss market order at $3 for the remaining 900 shares which would give it -25% wiggle room. Either way, I’m happy with the results, don’t want to get too greedy now.

I used to do this when I was an individual stock investor. I’ve moved all of my assets to long-tern index funds, so the need for stop orders is non-existent. Pretty slick strategy though. Especially AFTER cashing out a really good portion of your capital gains.

I love my trailing stops! I don’t just use them for trading (which I stopped trading a few years ago) but I use them to protect gains and to set up an orderly exit for positions I am ready to get out of.

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[…] a year, you are betting that the stock won’t drop by 10%. I would probably hedge my bet and set a stop order at around a 3-4% loss. So if the stock drops by 3-4% from the exercise price within 1 year of […]

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